Page 39 - Accelerating out of the Great Recession

ACCELERATING OUT OF THE GREAT RECESSION

European countries), and they generally worked with higher
leverage and less equity. European banks still have to take about
60 percent of their write-downs, totaling $800 billion.
Furthermore, some major institutions are closely linked with
Eastern European banks, considered to be particularly at risk by
the IMF in its assessment of global financial stability.
Consequently, any breakdown could easily spread across to the
European banking system. European politicians have also shied
away from executing a stress test for fear it would reveal a major
need to recapitalize. They demanded that if the stress test were
conducted, the results would have to be kept confidential.
European bankers and governments, like their U.S. counter-
parts, have done their share of hoping that they will be able to
recapitalize through cheap refinancing and an influx of new
business. This is not good news for the banks’ ability and will-
ingness to extend credit. This will hinder the recovery.
It is also likely that the European banks will experience a fur-
ther brake on their ability to lend. The European Commission
has signaled that European banks in receipt of state aid will be
expected to shrink their balance sheets substantially and reduce
their cross-border activities.
The recent positive earnings news from major institutions in
the United States and Europe seems to prove the effectiveness
of the hands-off, refinancing-through-the-back-door approach.
Low interest rates, the demise of a few players (allowing the
survivors to widen their spreads), and active trading have
allowed banks to boost their profits. Over time, this will help to
restore the capital base. But the jury is still out on whether this
will be enough in light of the risk of another wave of credit
losses caused by rising unemployment and struggling corporate

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